The Factors that Affect Adjustable-Rate Mortgage Rates
Adjustable-rate mortgages (ARMs) have been increasing in popularity in recent years. The interest rate on an ARM may vary, depending on market conditions. This makes ARMs an attractive option for borrowers who want to take advantage of low interest rates. However, the interest rate on an ARM is affected by several factors, some of which are beyond the borrower's control.
1. The Economy
The state of the economy has a significant impact on mortgage rates, including those for ARMs. When the economy is booming, interest rates tend to rise. On the other hand, when the economy is weak, interest rates tend to fall. This is because the Federal Reserve tries to stimulate economic growth by lowering interest rates.
If you're considering an ARM, you should closely monitor the state of the economy. When the economy is strong and interest rates are rising, it may be best to wait before getting an ARM. Conversely, when the economy is weak and interest rates are falling, it may be a good time to consider an ARM.
2. The Prime Rate
Many ARMs are tied to the prime rate, which is the interest rate that banks charge their most creditworthy customers. The prime rate is affected by the Federal Reserve's monetary policy, as well as other economic factors.
When the prime rate goes up, the interest rate on an ARM typically increases as well. Conversely, when the prime rate goes down, the interest rate on an ARM may decrease. Keep in mind that the prime rate can fluctuate over time, so you should be prepared for your mortgage payment to change if you have an ARM tied to the prime rate.
3. The Index
Many ARMs are tied to an index, which is a benchmark interest rate that lenders use to determine the interest rate on the loan. Common indexes include the London Interbank Offered Rate (LIBOR) and the Cost of Funds Index (COFI).
The specific index that your ARM is tied to can affect your interest rate. For example, if your ARM is tied to LIBOR and the LIBOR rate goes up, your interest rate may increase as well. You should research the different indexes that lenders use before choosing an ARM.
4. Credit Score
Your credit score is a measure of your creditworthiness. Lenders use your credit score to determine the interest rate on your mortgage. Borrowers with higher credit scores typically qualify for lower interest rates, while borrowers with lower credit scores may be charged a higher interest rate.
If you're considering an ARM, you should make sure your credit score is as high as possible. You can improve your credit score by paying your bills on time, keeping your credit utilization low, and checking your credit report for errors.
5. Down Payment
The size of your down payment can affect the interest rate on your mortgage. If you make a larger down payment, you may be able to qualify for a lower interest rate. This is because lenders see borrowers who make larger down payments as less risky.
Conversely, if you make a smaller down payment, you may be charged a higher interest rate. This is because lenders see borrowers who make smaller down payments as riskier.
6. Loan Term
The length of your loan term can affect the interest rate on your mortgage. Generally, shorter loan terms have lower interest rates than longer loan terms. This is because lenders have less uncertainty about the future when they lend money for shorter periods of time.
However, shorter loan terms also mean higher monthly payments. If you're considering an ARM with a shorter loan term, make sure you can afford the higher monthly payment.
Conclusion
When considering an ARM, it's important to understand the factors that can affect your interest rate. Some of these factors, such as the state of the economy and the prime rate, are beyond your control. However, other factors, such as your credit score and down payment, are within your control.
Before choosing an ARM, it's important to do your research and compare different options. You should also be prepared for your mortgage payment to change over time, as the interest rate on an ARM can fluctuate.